Question

The Free Group issues $100,000 of 6% bonds on January 1, 2020 for $107,795. The bonds will mature on December 31, 2029 (10 years). The market yield for bonds of similar risk and maturity is 5%. Interest is paid semiannually on July 1 and January 1.

a. Free Group has a calendar year-end and issues financial statements as of December 31.

Prepare the journal entry to record the issuance of the bonds on 1/1/2020 and any other journal entry(ies) required in 2020 related to this bond issuance. Free Group uses the effective interest method

Answer 1

Date	Account title	Debit	credit
1/1/20	Cash	107795
	Premium on bond payable		7795
	Bond payable		100000
1/7/20	Interest expense	2694.88
	Premium on bond payable	305.12
	cash		3000
31/12/20	Interest expense	2687.25
	Premium on bond payable	312.75
	Interest payable		3000
	[Being interest accrued to be paid on 1/1/21]

Working :

Period ended	Interest paid	Interest expense	Premium amortized	carrying value of bond
1/1/20				107795
1/7/20	3000	107795*2.5%= 2694.88	305.12	107795-305.12= 107489.88
31/12/20	3000	107489.88*2.5%= 2687.25	312.75	107489.8-312.75= 107177.13

There are 2 semiannual period in a year comprising of 6 months each

Semiannual interest to be paid = par value *coupon rate*n/12

              = 100000*.06*6/12

              = 3000

semiannual market rate = 5*6/12   = 2.5%